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July 10, 2012

Change Is Coming, RIAs. Don’t Get Caught in the Middle

The next time you’re in traffic, eyeing different makes and models of cars, you may also be getting a preview of the future of the wealth management industry. My meaning is this: I predict that over the next several years, the wealth management industry will radically transform itself so that two types of firms predominate—one type at the low end (“for the masses” if you will), and one at the high end. Or, to put it in the parlance of car-speak, one type that’s analogous to Toyota, and one type that’s a Lexus. And guess what—the types of firms in the middle, the ones that remain in the middle, I should say—will be crushed and disappear into oblivion.

Model 1: The High End Is All About Relationships

Market factors are at work in this coming transformation. First, there’s now a proliferation of tools that enable ordinary investors to perform the same types of analyses that formerly only banks, brokerages and other advisory professionals could do. Increasingly, these investors are comfortable handling their own money and assuming roles that used to be reserved exclusively for their advisors.

It’s not hard to see where this will lead: In the future, many of these savvy investors will want more from their advisors than the standard services that are typically offered by today’s RIA. They’ll want advisors who provide value added services that go beyond money management, and encompass all types of financial decision-making—such as advising on the feasibility of high-end real estate purchase, collaborating with a client’s legal counsel on structuring a pre-nuptial agreement, or helping a client’s children put together a lifestyle budget. In effect, these types of advisors go from being financial advisors to being family advisors. They’ll need a unified view across the family’s financial holdings.

This is where the high end of RIA firms will be going in the years ahead. And because the relationship between advisor and client is the all-important factor here—and family financial matters trump the more mundane aspects of measuring stock performance—the perceived value of such services will be high. Clients will be willing to pay handsomely for this type of personal, on-call relationship that features in-person meetings, frequent and easy access to advisors, and high-touch interaction on all types of financial and non-financial matters.

This is the Lexus you see in traffic ahead of you, driven confidently by a driver who can well afford such a vehicle and is not concerned about price—because he or she knows they’re receiving a standard of quality that is far superior to what the general market has to offer.

Model 2: Low End Does Not Mean Low Quality

At the other end of the spectrum, we have the low end. But that choice of words does not mean shoddy or inferior. Rather, it means that these RIAs will be offering low-priced services to cost-conscious investors, just the opposite of what’s offered by the high-end ‘Lexus’ firms we’ve just described.

The driving force, again, is technology. With so many financial tools available to investors for their own use, how much does an investor really want to pay for the typical array of money management services that incorporate the same basic functions? In other words, as technology proliferates, it will create downward pressure that drives down the perceived value (and hence, the price) of advisory services.

Here, we’re not talking about family advisors on in-person meetings. Rather, this is an advisory interaction that is primarily conducted online. We’re speaking of a relationship that focuses purely on money management, as in ensuring that advisors’ portfolios are reasonably configured vis-à-vis their ultimate goals.

While these aren’t high end services, they are high-efficiency services. These are the Toyotas you see across the median strip, one cruising along after the other, each one cranked out economically by a high-volume manufacturing operation that delivers high value at a modest price. And make no mistake—price is key. By offering an array of online services that can compete with today’s typical RIA services, but by using technology to do it far more efficiently and cheaply, the low end firm of the future will be a force to be reckoned with.

Do You Really Want to Be Caught in the Middle?

As these two types of firms come to the fore, being a “middle of the road” advisory firm will become an increasingly untenable position. From a service perspective, a middling firm will be unable to compete with Lexus. And from a pricing perspective, they’ll be killed by Toyota. This is a scary proposition, because as they’re now configured, most of today’s advisory firms now feature a service offering and pricing structure that would place them smack in the middle. To survive, these firms will be forced to make a choice—do they wish to migrate to the high end or the low end? The fact is, you can’t offer a Toyota to the public and charge Lexus prices.

I’m reminded of Cadillac, a brand that didn’t change with the times and saw a rapid erosion of its market share. In the case of Cadillac, the manufacturer didn’t heed the future, nor did they evolve their offering. They missed out on turning the next generation of drivers into Cadillac owners. Which RIA firms will suffer the same fate?

It’s an essential question…because the change is coming. You’ll begin to see it within the next three to five years. It will move quickly when it arrives and completely transform wealth management within 10 years. As you face this industry-wide transformation, what decisions will you make as which make and model your firm will become?